Differential costs assist decision makers while making a choice between different alternatives. Differential costs are those items of total costs of two or more alternatives which have different magnitude under each alternative. Items of differential costs may be variable cost items or fixed cost items. Following table illustrates the concept of differential costs in case of a decision to choose between two alternative methods of production.
For evaluation of alternatives on the basis of cost data only the differential costs are important for consideration; therefore, these costs are also called relevant costs. Net differential cost represents the extra cost of the rejected alternative; therefore, it is also referred to as incremental cost.
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